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“Air Transport Industry: Structure, Economics, Operations”, Northwestern University Transportation Center 4/28/2016

Air Transport Industry

Structure, Economics, Operations

Northwestern University Transportation Center April 28, 2016 Peter L. Smith

“Air Transport Industry: Structure, Economics, Operations”, Northwestern University Transportation Center 4/28/2016 “Air Transport Industry: Structure, Economics, Operations”, Northwestern University Transportation Center 4/28/2016

Context • The Presenter

– BA Harvard , MST Northwestern, MBA Foster School (U. of Washington)

– Urban and regional transportation: 6 years including 1 ½ years in Lille, France

– AT&T Communications, market analysis: 2 years

– The Boeing Company: 29 years until retirement 7/1/2013

• Telecommunications business strategy

• IT design, project management, and quality assurance

• Commercial Aviation Services and Marketing: airline value analysis, market analysis, and

competitive analysis

• Not representing Boeing: all positions and opinions are presenter’s

• Objectives vis-à-vis audience

– Context, and something new about the industry

– Spark questions for research and investigation

– Give suggestions for those seeking to work in the industry 3 © 2016 P. L. Smith



Airline Operating Costs (“Typical” Airline, 2014)

13.7%

16.4%

34.6%

7.0%

7.6%

2.7% 6.9%

4.2% 3.0% 3.0% 0.8% Crew Compensation

Airport Handling

Fuel & Oil

Revenue Management

Rental, Deprec & Amort

Passenger Service

General & Admin

Airframe Maintenance

Engine Maintenance

Maintenance Burden

Other Expenses

© 2016 P. L. Smith 4

Source: Boeing internal analysis, used with permission for presentation at Northwestern University 4/28/2016


The Fuel Factor

© International Air Transport Association, 2015. Economic Performance of the Airline Industry, end year 2015

5 © 2016 P. L. Smith


Profit Trend


6 © 2016 P. L. Smith


Career Factors in the Aviation Industry • OEM

– Desired background • Engineering background preferred; business supplemental

• Airline experience valued – Departmental alignment enhances: e.g. fleet management, maintenance

• Functional: e.g. accounting, law, supplier management, IT, non-commercial aviation

– Entry • Networking

• Internships

• Jobs advertised

– Career paths • Management

• Technical: many disciplines

• Marketing and Sales

• Airline – Fast paced: “day of” emphasis

– Timeliness and accuracy

• Business cycle – timing

© 2016 P. L. Smith 7


Scope: Single and Twin-Aisle > 90 Seats

© 2016 P. L. Smith 8 Source: ASCEND / Flightglobal Consultancy


Passenger vs. Cargo

© International Air Transport Association, 2015. Economic Performance of the Airline Industry, end year 2015 9 © 2016 P. L. Smith


Economic Dynamics


10 © 2016 P. L. Smith


How the Industry Works – Major Players

Airlines

OEMs Airframe,

Engine

Airports

11 © 2016 P. L. Smith

MROs

Suppliers

Customers

Lessors


MANUFACTURER

CUSTOMER

Prepare to support: -Provide training -Deploy maintenance facilities and inventory -Deploy/train field service

Life Cycle of an Airplane Sale

© 2016 P. L. Smith 12

Airline Strategic Assessment

Lessor Market Assessment

OEM Strategic Suggestion

RFP

Proposal(s)

Decision / Letter of Intent

Definitive Agreement

OR

OR

Line Start

Progress Payments

Install Interior

Deliver

Prepare to introduce into fleet and operate: -Train personnel: flight, cabin, maintenance -Deploy maintenance facilities and inventory -Plan cabin and seat configuration

Test & Accept

ASSEMBLE NEGOTIATE PROCURE


OEM Aftermarket “Services & Support”

• Training

• Parts: “spares” & routine

• Engineering support – Field Service: 100’s of offices worldwide

– Repairs

– Modifications – SB’s

– Engineering Data

• Navigational data (Boeing: Jeppesen)

• Information based – Airplane health

– Operations centers

• Consulting – Fuel, other operational & business

© 2016 P. L. Smith 13

Boeing Field Service offices Airbus Field Service and other offices


Airbus & Boeing Fleet Statistics 2015

Airbus Boeing

2015 Net Orders 1,080 768

2015 Aircraft Delivered 635 762

Total Orders (to 3/16) 16,361 23,132

Total Deliveries (to 3/16) 9,643 17,392

In Operation (3/16) 8,762 10,000 +

© 2016 P. L. Smith 14 Sources: Airbus and Boeing annual reports


Airbus & Boeing Financial Statistics 2015

($ billions) Airbus Group

Airbus Commercial

Boeing Company

Boeing Commercial

Employees 136,574 ~ 160,000

New Orders (1) $178.7 $156.2 $83.0 $57.0

Order Book (1) $1,130.2 $1,070.2 $489.0 $432.0

Revenue $72.5 $51.5 $96.1 $66.0

Op. Earnings (Boeing) $7.4 $5.2

PBFCIT (2) (Airbus) $4.6 $2.6

Net Earnings / PfP (3) $3.0 $5.2

Cash & Equivalents – EoP $8.2 $11.3

© 2016 P. L. Smith 15

(1) New Orders and Order Book / Backlog are based on list prices. Actual prices may be lower. (2) Airbus PBFCIT = Profit Before Finance Costs and Income Taxes. (3) Boeing Net Earnings believed to be roughly equivalent to Airbus Profit for Period.

Currency conversion: $1 = €0.89 representative rate for 2015. $1 = €0.92 at EoP on 12/31/15.


Some Causes of Flight Schedule Delays • Weather

• Air traffic control

• Passenger

• Security

• Mechanical / technical (tend to be long, “creeping”)

• Flight crew not available

• Cabin crew not available

• Equipment not available

• Previous delay (“Consequential”)

17 © 2016 P. L. Smith

Can

cause

Mo

re L

ike

ly

to c

ause

Inspired by Boeing analysis, patent pending

NOTE: Many airlines do not track the lengths of delays, and/or do not understand their true costs.

• Facilities

• Damage

• Connecting passenger

• Ramp


Cost of a Flight Delay, by Length of Delay

Low Schedule Frequency High Schedule Frequency

Length of the Delay

“Notional”, normalized by seat capacity

18 © 2016 P. L. Smith Inspired by Boeing analysis, patent pending

Strategy: recover flight

Strategy: cancel flight


The Low-Cost Carrier (LCC) Model

• Primarily point-to-point operations.

• Serving short-haul routes, often to/from regional or secondary airports.

• A strong focus on price sensitive traffic, mostly leisure passengers.

• Typically one service class only, with no (or limited) customer loyalty programmes.

• Limited passenger services, with additional charges for some services (e.g. on-board catering).

• Low average fares, with a strong focus on price competition.

• Different fares offered, related to aircraft load factors and/or length of time before departure.

• A very high proportion of bookings made through the Internet.

• High aircraft utilisation rates, with short turnaround times between operations.

• A fleet consisting of just one or two types of aircraft.

• Private-sector companies.

• A simple management and overhead structure with a lean strategic decision-making process.

© International Air Transport Association, 2006. IATA Economics Briefing No 5, Airline Cost Performance, 7/2006

19 © 2016 P. L. Smith



Alaska to Acquire Virgin America

Source: “Alaska Airlines Acquires Virgin America Investor Deck”, April 4, 2016 20 © 2016 P. L. Smith


Combined Airline Statistics

Alaska + Virgin by the Numbers

Annual Revenues

Annual Passengers

Aircraft + = Daily Departures

Destinations

Pre-Tax

Profit

*AS and VX have 22 current destinations that overlap.

$7.1 Billion

39 Million

282

1,200

114*

$1.5 Billion

$5.6 Billion

32 Million

152 Boeing 52 Q400

15 regional jets

1,000

112

$1.3 Billion

$1.5 Billion

7 Million

63 Airbus

200

24

$200 Million

23 © 2016 P. L. Smith Source: Alaska Airlines


Acquisition Economic Overview

© 2016 P. L. Smith 26

Average Annual Run

Rate Estimates

Revenue Synergies $175 M

Net Cost Synergies $50 M

Total Synergies $225 M

We expect one-time costs to total ~$300M - $350M

Significant synergies create value for our owners.

Source: Alaska Airlines


Acquisition Financial Overview

© 2016 P. L. Smith 27

Acquisition Price

Equity Purchased $2.6B

Net Debt and Leases Assumed $1.4B

Total $4.0B

Financing Sources

Cash $0.6M

Debt and Leases Assumed $1.4B

New Debt Issued $2B

Total $4.0B

We expect to finance the transaction with cash on hand, aircraft debt and a temporary slowdown of share buybacks.


Traditional Maintenance Checks

© 2016 P. L. Smith 28

A B C D / HMV

Interval – FH 400-600 (1) (2)

Interval – Cycles 200-300 (1)

Interval - Months 6-8 20-24 72

Maintenance Hrs 20-60 120-150 Up to 6,000 Up to 50,000

AC Down Time Overnight 1-3 days 1-2 wks + Up to 2 months

Purposes Systems, etc.

Systems, etc. Structural and zone inspections

Deep inspection , overhaul, cabin

(1) May be the same as for A checks. (2) May be defined by manufacturer.

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